Description

Cash has been trash for a number of years but that’s no longer the case. Finally, conservative investors can make a decent return with minimal risk. This may be a boring idea but its actionable and has adequate liquidity.

I bought the FHLB 6.34% due 9/26/2033 (cusip: 3130AXA40) this morning at par. These bonds are exempt from state tax. They are callable beginning in March of 2024.

As a CA resident my taxable equivalent yield is nearly 7% (6.97%).

6.34% / (1 – 9%) = 6.97%

I bought these bonds in my Schwab account. I have noticed they randomly show higher or lower yields daily. I bought some 6.4% FHLB 10 years bonds a few weeks ago as an example. Schwab is not an authorized dealer.

List of Authorized dealers

https://www.fhlb-of.com/ofweb_userWeb/pageBuilder/authorized-dealers-134

Fed Funds Effective Rate is 5.33% which is essentially the highest yield in the past 15 years. Quite a few investors are pretty content rolling 6 month t-bills but this is a better deal IMO.

The highest yielding t-bill is currently 5.52%. The FHLB bond has an 0.82% yield advantage. This is high compared with other Agency issues and much higher than recent OAS. In fact, the OAS peaked at about 1.40% during the GFC so there’s pretty limited downside (excluding a default).

One way to look at this is by comparing directly with a t-bill. First call date is about the same as a 6 month treasury but with 82 bps advantage it’s a good place to park some cash and earn a respectable yield while waiting for lower interest rates. If yields fall I may not benefit from duration but I will have cash available and a lower discount rate for equities….or will continue to receive a very high yield.

FHLB bonds yields compare favorably with investment grade corporate bonds  after tax at a substantially lower risk. The OAS is currently about 1.22%.

Risk Mitigants

• GFC spread was only 140 bps vs 82 beeps today implying limited downside .
• FHLB was established in 1932 and has never had a default.
• Capital Ratios are better than pre-pandemic and have a surplus of 1.31% over requirements.
• S&P, Fitch and Moody’s rate this equal to US government debt.

https://fhlbanks.com/

Their business model is solid and adjusts to risk by providing flexibility in payments and adjusting collateral. But the banks are jointly and severally liable for their debt and in some ways this provides a government backstop if things go awry.

Catalyst

Collect the interest